December 5, 2023

News Analysis: With 1% Growth and Staggering Debt, Italy Might Have to Cut Its Vacation Short

On Friday, Mr. Berlusconi, a born salesman who seems constitutionally unable to deliver bad news, gave a surprise news conference with his finance minister, Giulio Tremonti, to say the government would speed up the pace of reforms, among other things aiming to balance its budget by 2013, not 2014 as planned in an austerity package approved by Parliament last month.

Many analysts doubt the government will be able to achieve a balanced budget by then, but even that may not be enough to head off an eventual solvency crisis. Last week, Italy’s borrowing rates spiked to a record 6 percent on a debt that is 120 percent of gross domestic product, the second-highest in Europe, after Greece.

If rates stay that high, it could add unbearable strains to a country that is expected to have to refinance nearly $500 billion in 2012, one of the highest amounts in the euro zone and the equivalent of 20 percent of Italy’s G.D.P.

“The situation is getting clearly worse,” said Tito Boeri, an economics professor at Bocconi University in Milan. “Markets have always perceived the risk in Italy as more a problem of slow growth than a problem of solvency, but for a country with a debt the size of Italian debt, the boundary between a liquidity and a solvency crisis is very difficult.”

There are some bright spots. A study by the Italian bank UniCredit last week said that it expected Italy to issue $110 billion in bonds by year’s end, but that the country’s cash position was still “very favorable.” “Even with the currently volatile market conditions,” Italy would end the year with $65 to $70 billion in cash, the bank said, giving the Finance Ministry “sufficient room to counterbalance a reduction in foreign demand.”

The International Monetary Fund says 75 percent of Italian debt is long-term and therefore fairly stable. The nation’s budget deficit, at 4.6 percent of gross domestic product in 2010, is below the European average. Unlike Spain or Ireland, it never had a housing bubble, and unlike Greece and Portugal, it has a strong manufacturing sector and is Europe’s second-largest exporter, after Germany.

But markets are looking for weak links in the euro zone. “When the sharks scent blood they will keep nibbling at potential victims to see if they can be turned into full meals,” said Iain Begg, an economist at the London School of Economics and an expert in European monetary policy.

Italy’s greatest weakness is its faltering growth rate. Real G.D.P. is expected to grow by 1 percent in 2011 and 1.3 percent in 2012, according to Eurostat, not nearly enough to put a dent in its overall debt.

Small businesses with fewer than 15 employees make up the bulk of Italy’s economy. But because of an entrenched bureaucracy that strangles growth — and, economists say, some businesses’ tendency to favor family control over competitive edge — even when the world economy was booming, Italy’s was not. (In 1998, when the United States economy grew 4.4 percent, Italy’s grew 1.4 percent, compared with a European average of 3 percent.)

There are other worrisome figures. Italy currently spends 14 percent of its G.D.P. on pensions. Although its unemployment rate is 8 percent, lower than the European average of 9.9 percent, its employment rate is among Europe’s lowest — at 61 percent for men and 50 percent for women, compared to a European Union average of 75 percent for men and 62 percent for women.

Youth unemployment is around 27 percent, and a full two million young people are in a kind of limbo, neither working nor studying.

In light of this, some say the austerity measures of tax increases and co-payments on health care will only make things worse. “It’s not enough to get the deficit to zero, it’s how you get there that is important,” said Mario Baldassarri, a former Italian deputy finance minister and head of the Senate Finance Committee who was elected with Mr. Berlusconi’s party but broke with him last year.

He said that rather than raise taxes, which dampen growth, the government should have opted to make significant cuts to current government expenditures. “This has to be done now, there is no time to wait,” Mr. Baldassarri said. “Until now the government has acted like a dog chewing its tail and we cannot be that anymore, and that is what the financial markets are telling Italy.”

On Thursday, Italy’s business leaders and often recalcitrant labor union leaders met with the prime minister and said they were willing to start work immediately on reforms. “We cannot allow ourselves to stay in neutral and at the mercy of the markets until September,” they said in a joint statement.

Despite the dizzying descent in the bond markets, many here say members of Parliament have yet to grasp the gravity of the crisis.

“To speak about the most serious crisis in the past 20 years in front of M.P.’s with their suitcases packed, more concentrated on their vacations than on servicing the public debt, gives the image of a political class that is blissfully ignorant,” the commentator Stefano Feltri wrote in the left-wing daily Il Fatto Quotidiano on Friday.

At a news conference on Thursday, Mr. Berlusconi struck a Hooverian pose, saying he did not expect more market turmoil ahead and urged Italians to put their money into Italian bonds. But the new austerity measures include a higher tax on the special accounts required to trade bonds in Italy. “At a time where we want Italians to buy more government bonds, that’s a silly idea,” said Mr. Boeri.

Mr. Berlusconi also urged Italians to buy shares in his companies, which include Italy’s largest private broadcaster, Mediaset. “I brought a company public and if I had significant savings, I would invest in my businesses, which continue to give economic results,” he said with a smile.

Elisabetta Povoledo and Gaia Pianigiani contributed reporting.

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A Daunting Path to Prosperity

But things got tangled — as they often do in Italy, where bureaucracy and politics can easily overwhelm economics.

Each application that Ikea filed seemed to require yet another. Each mandatory impact study begat the next. By May, when a local mayor had still not decided whether the company could get a building permit, Ikea put out word it would abandon the plan.

As Italy teeters on the edge of the European debt crisis, it can ill afford more debacles like that one. Otherwise, despite having the world’s seventh-largest economy, Italy may have little hope of outgrowing the staggering debt load that could threaten its financial future — and that of the euro monetary union.

Already, investors seem skeptical whether Italy and other debt-saddled European countries can right themselves, despite the financial rescue plan for Greece that Europe’s leaders agreed to last week.

On Thursday, Italy’s borrowing costs jumped almost a full percentage point at an auction of 10-year bonds, compared with just one month ago. At 5.77 percent, the interest rate was more than twice what financially buoyant Germany must pay on bonds of the same maturity. As higher interest rates make it even harder for Italy to reduce its debt, the main recourse would seem to be faster growth.

“This is the only major issue for Italy now — to resume growth,” said Francesco Giavazzi, an economics professor at Bocconi University and a research fellow at the Center for Economic Policy Research in London.

Italy must not only encourage big corporate investments like the Ikea project, experts say, but it must also remove impediments that stifle growth in the thousands of small and medium-size companies that make up the backbone of its economy.

One small-business man, Mauro Pelatti, says he has given up on expanding his business in Florence, an hour east of here. “Bureaucracy is so strong, and taxes are so high, that it’s virtually impossible,” said Mr. Pelatti, whose privately held company, Omap, makes parts for steel-stamping machines used on products like Vespa scooters.

Italy’s economy experienced paltry growth starting in the late 1990s, when the country’s manufacturing was overtaken by competitors in Asia. Then came the global financial crisis in 2007, which shrank Italy’s economy by more than 6 percent.

Growth has resumed, but the International Monetary Fund predicts “another decade of stagnation,” with Italy’s gross domestic product expanding by only about 1.4 percent annually in the next few years. (The German economy, Europe’s growth leader, grew 3.5 percent in 2010 and grew by 1.5 percent in the first quarter compared with the same period a year ago.)

Hindering growth is Italy’s heaving government debt, which at 119 percent of gross domestic product is second only to Greece’s among euro zone members. Although it has run a budget surplus, minus debt costs, for several years and recently passed a 48 billion deficit-reduction plan, the Italian government now spends 16 percent of that budget on interest payments — a bill that will rise if investors and creditors continue to fear that Italy cannot escape Europe’s debt crisis.

Currently, the amount of Italy’s debt held by foreigners — nearly 800 billon euros — is more than that of Greece, Ireland and Portugal combined. Should Italy stumble, the aftershocks would be more disruptive than anything the euro zone has felt so far in the crisis.

The barriers to growth make for a daunting list. For starters, national leaders like Prime Minister Silvio Berlusconi and even mayors of the smallest towns tend to be caught up in politics that distract them from the economy’s plight. What is more, productivity has been flat for a decade. And corporate taxes are around 31 percent, not counting an array of local taxes assessed to businesses.

Gaia Pianigiani contributed reporting from Rome.

This article has been revised to reflect the following correction:

Correction: July 29, 2011

An earlier version of this article misspelled the name of Mario Carraro and his company as Carrero.

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